Wednesday, August 6, 2008

Housing Bill Relies on Banks To Take Loan Losses

Lawmakers Pressure Lenders to Pitch In To Curb Foreclosures

The housing rescue bill passed by the Senate Saturday hasn't been signed into law, but top Democrats already are putting pressure on regulators and bankers to make sure a major program to prevent foreclosures doesn't fall flat.

For struggling U.S. homeowners, the success or failure of the program -- which would let roughly 400,000 owners refinance into affordable, government-backed loans -- depends largely on bankers' willingness to take a partial loss on the loans and to reduce the amount of money borrowers owe.

Bankers say they will do it, but it isn't clear how many loans they might be willing to restructure.

"I absolutely do believe that there will be more principal reductions," Michael Gross, Bank of America Corp.'s managing director for loss mitigation, mortgage, home-equity and insurance services, told a congressional panel Friday.

If successful, the program could put a dent in the rising foreclosure figures as interest rates on adjustable-rate loans continue to increase while house prices in many areas slip. RealtyTrac Inc. reported last week that 739,714 homeowners received foreclosure warnings and other related notices in the second quarter.

Experts say the program's eventual participation could rise dramatically if home prices continue to drop -- which could put more pressure on lenders to offer borrowers more assistance. Lawmakers are already pressing regulators and lenders to prepare now so the program can begin without delay when it goes into effect Oct. 1.

The Senate approved the bill 72-13 after the House of Representatives passed it Wednesday in a 272-152 vote. Minutes after the Senate vote, Senate Banking Committee Chairman Christopher Dodd (D., Conn.) called for a prompt meeting with the Federal Reserve, the Department of Housing and Urban Development, and other regulators to determine the quickest way to get the program up and running.

House Financial Services Committee Chairman Barney Frank (D., Mass.) on Friday asked lenders to hold off on foreclosures until Oct. 1 if it is possible the borrower would qualify for the government program. He threatened legislation if loan servicers and investors don't work together to help prevent foreclosures.

Taking a loss on a loan by writing down the principal owed is one of the least desirable options for loan servicers. They typically prefer to lower the interest rate or extend the life of the loan -- from 30 years, for example, to 40 years, and also offer a home warranty.

"The real problem is going to be, just like with every program out there, are the banks going to take this seriously?" said Rebecca Case-Grammatico, a staff attorney at the Empire Justice Center in Rochester, N.Y., who advises clients facing foreclosure. "And if they don't, we're in the same position we've been in all along."

Whether banks embrace the program could mean the difference between foreclosure and homeownership for people like Kimberly Cox, 37 years old. Ms. Cox refinanced the $254,000 mortgage on her New Boston, Mich. house three years ago into a mortgage that had a flat interest rate for the first two years and then switched to an adjustable rate. When rates reset a year ago, her monthly payments jumped from $2,100 to $2,800, far more than she and her husband could afford.

The program will be run by the Federal Housing Administration, a division of HUD, and will insure up to $300 billion in refinanced 30-year, fixed-rate loans. The mortgages can't be for more than 90% of a home's newly appraised value. For mortgages that exceed the value of the home, the lender would have to voluntarily write down the principal to the qualifying level. If the home goes up in value, the borrower must share newly created equity with the FHA.

The program will begin Oct. 1 and end Sept. 30, 2011. Borrowers won't be able to qualify if they have intentionally defaulted on their loans or if they had a debt-to-income ratio of less than 31% as of March 1.

Karen Yule, a retired schoolteacher and counselor in Denver, hopes the program could help her save her two-story townhouse from foreclosure. She consolidated two mortgages on the home into one loan through a refinancing several years ago.

Her new adjustable-rate loan gave her multiple options each month, and she typically paid the lowest amount. Recently, her loan servicer told her she could no longer pay the lower amount she had been paying -- $1,200 -- and her payments doubled to $2,400, well above what she was able to pay. She has tried to move into a more affordable loan, but there is a hefty prepayment penalty if she moves out of her current loan before next year.